Howard Hughes Corp - A Textbook "Greenblatt" Spinoff?

It is becoming increasingly evident that I am obsessed with The Howard Hughes Corporation. The vast majority of my net worth is riding on this one company, even though I have no real edge over the average retail investor - nor will I likely ever meet management. 

From the current price of ~$73, this idea does not have the multi-bagger potential that General Growth Properties once had at its low of $0.30.  Indeed, one can say that a lot of the easy money has already been made since the discount to book value has disappeared since the price exceeded $58.  Theoretically, I should be swapping my funds into plays with similar merits and a large margin of safety like HHC once had. Despite being one of the more difficult companies to value, I have vowed to hang on for at least a few more years.

This is the first and last time I will say this: If you haven't read Joel Greenblatt's "You Can Be A Stock Market Genius", get yourself a copy.  The book's intrinsic value is far greater than its retail price as you will be introduced to a life-long, potentially lucrative facet of investing. Anyway, Greenblatt's book was written in 1998, and it is evident that his teachings regarding spinoffs are as relevant today as ever. In this brief note, I will highlight pointers from Greenblatt's book and how HHC has fit the box in textbook fashion. But before I begin, you may wonder why I promote know-how that could reduce my changes of investment success should more people catch on to spinoffs.  First of all, I think of this as my diary. Secondly, value investing doesn't resonate with the majority of investors to begin with, and spinoffs furthermore appeal to only a portion of the value crowd.  So I'm not convinced at all that a few more participants will reduce my chances of success.

 

 

Greenblatt Spinoff Pointers

 

The following are spinoff attributes from Greenblatt's book that I found applied directly to HHC:

• A high distribution ratio can lead to forced selling
• In spinoffs, management has an incentive in the beginning to hide rather than advertise value
• The spinoff may not immediately attract sell-side analyst coverage
• Entrepreneurial spirits are freed, but operations may not gain momentum until the new company's second year of existence

 What Has Played Out So Far

• A high distribution ratio can lead to forced selling
• I believe this is what happened with HHC. I know that at least one hedge fund shorted it out of the gate in Nov. 2010 at around $40 - on the first day of trading. What on earth was he/she thinking??!  
• In spinoffs, management has an incentive in the beginning to hide rather than advertise value
• Management has opened up since the November 2010 spinoff; warrant exercise prices were set based on the first several days of trading, and thus management had no incentive to advertise the firm's value in a bullish light before the exercise prices are set (to management's advantage). President Grant Herlitz made the company's first webcast available on the Howard Hughes website in September 2012, almost two years after the start of trading.  There are no quarterly conference calls, which is not inappropriate for a development company. However, CEO David Weinreb has had no media presence; besides his annual letter and the odd quote found in either press releases or articles, the public has had no way of getting to know the big boss. Is David working hard and fully engaged, or is he out of the picture?
• The spinoff may not immediately attract sell-side analyst coverage
• It has been two years since HHC began trading on the NYSE, and still no coverage has been intiated by of the bulge bracket brokerages, despite a market cap approaching $3 billion.
• HHC is a development-focused company, which does not naturally fit with sell-side REIT analysts who already covered General Growth.  How troublesome would it be to write an initiation report claiming expertise in a diverse collection of property types (MPCs, mixed use development, acreage of varying stages of development, retail, office) spread across the U.S.?  Does this neatly fit into a category for sector coverage?
• Entrepreneurial spirits are freed, but operations may not gain momentum until the new company's second year of existence
• in a little over two years of existence as a public company, HHC has made the following notable steps: (1) bought and gained Morgan Stanley's part interest in the Woodlands, thereby allowing for acceleration of development, (2) announced plans for South Street Seaport (though I'm sure the flooding caused by Superstorm Sandy is having an adverse effect in marketing to prospective tenants), (3) recommencement of Summerlin Center - Macy's and Dillard's already signed as tenants, (4) announced Ward Center plans, and (5) increased shareholder ownership by ~10% on a fully diluted basis after negotiating the  reitrement and conversion of warrants with Brookfield, Blackstone, and Fairholme

Why the sell-side should want to build a strong relationship with HHC now (this part is me talking my own book - but the logic is sound)

• The company will need funding to develop its projects; agents will also be needed to find buyers for percentages of projects after full ramp-up.
• HHC's team is highly competent and a breeding ground for CEOs of future companies
• I predict that within several years, at least one company will spin-off of HHC. Young talent will branch off into other firms in senior management positions with a highly credible deveopment track record. By covering the stock now, you will also get access to less senior management who will eventually be the trigger pullers.  Think beyond the next quarter.
•  Despite the price appreciation, HHC is still a good stock pick and will be beneficial for an analyst's career.